Vascular Solutions: Still A Strong Long-Term Buy

Vascular Solution’s (VASC) management reported revenue of $24.3 million in Q3 2011 versus consensus estimates of $25.0 million. The poorer-than-expected performance was largely due to weak sales in the company’s hemostat and vein product lines.

Hemostat products had revenue of $4.9 million, a Y/Y decline of -6%, while vein product had revenue of $2.5 million, a Y/Y decline of -12%. Competition in these mature markets continues to eat away at margins.

• Vein Products: Hopes that Vascular Solution’s Vari-Lase product line revenue would improve as Covidien (COV) subsidiary VNUS enforced patents against discount competitors have so far proved unfounded. Litigation between VNUS and competitor Diomed is still ongoing. As a result, Diomed is able to continue to undersell Vascular Solutions. Resolution of the litigation in VNUS’s favor would benefit Vari-Lase sales.

• Hemostat Products: It appears that revenues will continue to be flat or declining in Vascular Solution’s hemostat product lines. Management cited competitive pricing pressure for Vascular Solution’s D-Stat Dry product. However, the company could see upside if Marine Polymer’s injunction against competitor HemCon is enforced. Marine Polymer was awarded an injunction in September but Hemcon was subsequently given a stay. The injunction would prevent HemCon from selling such products as the HemCon Bandage and the Chitoflex and Dental Dressings. Vascular Solutions management did say that launches of Silver versions of the D-Stat Dry and Thrombix products, which include a new antimicrobial ingredient, would enable the company to maintain hemostat market share.

Catheter sales continue to be Vascular Solution’s growth driver. The segment had revenue of $13.5 million in Q3, Y/Y improvement of 35%. This was lower than expectations due to relatively weak sales in the Pronto extraction catheter line. The launch of the Pronto V4 has been delayed by manufacturing issues and increased competition has taken market share.

The bright spot in the catheter segments continues to be the GuideLiner, Vascular Solution’s superstar product. GuideLiner revenue in Q3 was $2.4 million, up 87% Y/Y. Management has estimated the market potential of the GuideLiner to be $30 million. One of the most promising aspects of the GuideLiner is that it gives Vascular Solutions’ sales reps inroads into new customers. 1,311 U.S. hospitals have now purchased the GuideLiner.

Guidance

Management projected full-year 2011 revenues of $90.2-$90.6 million and EPS of $0.56-$0.58. Management also expects 2012 revenue growth of 9% and EPS growth of 15%, excluding one-time items that occurred in 2011.

Valuation

Although pricing pressures are a cause for concerns and continued monitoring is needed, Vascular Solutions has a record of strong revenue growth and a diverse product portfolio to rely upon. A P/E of 25x-27x is a reasonable premium to the company’s peer group. On that basis, a price target of $13.50 appears conservative.

Investment Thesis

Vascular Solutions continues to look like a good buy for the long-term investor who wants a conservative growth stock and small-cap exposure.

• Competitive Market Position: Vascular Solutions occupies a unique place in the market. Its approximately 90-rep sales force gives it the sales capability of a large medical device company but it targets niche markets that are too small for the larger players. This gives the company two advantages: 1) it dominates many of its niche markets, and 2) its sales force enables it to go where other small competitors cannot.
• Accretive Acquisition and Organic Growth Opportunities: Strong free cash flow generation and balance sheet with $17.8 million in cash and no debt gives the company the opportunity to acquire small product lines and invest in long-term R&D. Vascular Solutions’ existing sales force can add new products to their product bags without incremental cost increases.
• Top-Line Growth Leads to Bottom Line Margin Improvement: Vascular Solutions will be able to bring more and more manufacturing processes in-house to achieve lower costs as it achieves scale in its portfolio. Excluding two one-time items that boosted operating margins in Q3, Vascular Solutions had Q3 operating margins of 13%, a 30% Y/Y improvement.
• Expansion into Larger Opportunity Markets: In the long-term, Vascular Solutoins is developing two products that it believe have major market opportunity. The first, Magna Seal, is a magnesium-based product which could be used following interventional procedures to seal arteries, would compete in the $500 million market currently dominated by St. Jude Medical’s (STJ) Angio-Seal. The second, the Acolysis Ultrasound Thombolis System, would compete in a $200 million market. Acolysis can be used to treat arterial disease by delivering ultrasound through an intravascular probe. Acolysis currently has a CE mark but is not yet approved for the U.S. market. U.S. launches for both of these products may occur in 2012 or 2013. If successful, Vascular Solutions could become a takeover target for a larger player.

Additional Commentary

Low Takeover Potential: Do not expect Vascular Solutions to be a takeover target anytime soon. The company’s strategy is to pursue niche markets below the radar of larger competitors. Any potential buyer would be taking on a broad and diverse portfolio of low-opportunity products.

Strong Management Team: The CEO/founder maintains a sizable equity stake in the company. The management team has a track record of making itself very available to the investment community and has significant regulatory expertise.

Disclosure: I am long VASC.